September 22 the Federal Reserve initiated “Operation Twist” where they announced that they would start restructuring its debt by buying up long bonds with the proceedings from short bond sales, with the aim of lowering the long-term yields.
As I mentioned in my post on that occasion, the Fed and Ben Bernanke had then exhausted the three main ways of conducting unconventional monetary policy as defined by Bernanke himself in a paper from 2004: I. Shaping Interest-Rate Expectations; II. Altering the Composition of the Central Bank’s Balance Sheet; III. Expanding the Size of the Central Bank’s Balance Sheet. In case nothing new would happen to the American economy, the obvious question I asked was “what will come next”?
The “answer” came two days ago where the Fed announced an unchanged policy stance. That is, the Fed funds rate is kept around zero for at least until mid 2013 (unless new information arrives) and Operation Twist continues. Many commentators took this as the same as doing nothing. Paul Krugman saw indications of a Bernanke not realizing that “radical action” was needed. Others were disappointed that Bernanke would not contemplate a change in policy mandates (from the current dual mandate of price stability and maximum employment to, say, nominal GDP/GDP growth targeting).
First of all, I think it is unfair to compare a decision of an unchanged policy stance to that of doing nothing. They could have done a lot of “something” that would be quite bad. I don’t think, for example, that one should engage in discussions about policy changing policy mandates in the midst of a crisis situation. This could undermine longer-term credibility. Wait until calmer times. (I have, e.g., written positively about nominal income growth targeting elsewhere, but these are not the times.). Secondly, the question is whether the Fed hasn’t gone as far as it can? It could, of course, do a third round of quantitative easing, but as it is entirely unclear whether the second round did any good, it appears a bit desperate.
And have we really come to a point where policymaking bodies should make a change just for the sake of it? I think one must realize that monetary policy is now doing what it can to help the US recovery. So, maybe it is time to look at the structures on the labor market, if we want to understand why unemployment keeps up at 8-9 % in a country that for many Europeans was seen as an ideal in terms of labor-market flexibility. As Krugman states in the same post mentioned above:
“we don’t want “stabilization” right now – we want an escape from a slump that is crushing our future.”
He is completely right. However, while monetary policy can do stabilization, it is usually not the remedy against what seems to have become a structural issue.